14/06/19How to make sure your pension lasts a lifetime
Thousands of retirees are shunning Annuities when they reach retirement age. Instead, they are taking advantage of the opportunity to access their pension savings flexibly. It can be a fantastic way to match your income and lifestyle, but figures suggest many are withdrawing unsustainable amounts.
There are many benefits to taking your pension flexibly. However, you need to keep in mind that you will be in control of when withdrawals are made and at what point your pension funds may run out. If it is an option you go with, ensuring sustainability and building an income stream that will last a lifetime is crucial.
How much are people withdrawing from their pension?
The latest figures from HM Revenue & Customs (HMRC) indicate the average pension withdrawal in the UK is £7,254 each year. That may not sound like a lot, but when you consider the average pension entering drawdown is between £80,000 and £123,000, it is a sizeable chunk. This means the average retiree using Flexi-Access Drawdown is accessing their pension at a rate of between 6% and 9% annually, far higher than the recommended percentage.
Of course, the figures only give a snapshot of the state of pensions across the UK. For instance, retirees may be running down smaller pensions or know they have other sources of income or savings to fall back on. However, overall it suggests pensioners are taking too much too quickly out of their pensions.
What is a sustainable amount to withdraw from pensions?
The general rule of thumb that is often cited in response to this question is 4% annually. However, given increasing life expectancy, some people suggest it should be lower than this to ensure long-term sustainability.
In fact, research indicates that withdrawing 4% a year means there is a 25% chance that a pension will be completely depleted within 30 years. It is not uncommon for modern retirees to spend 30 or 40 years in retirement. If your pension was depleted and you had another ten years left to live, would you be able to cope financially? For this reason, it is important to understand what is sustainable for you, whilst balancing it with aspirations.
There is another problem with the often mentioned 4% figure; it assumes retirement spending is static.
Retirement today is rarely linear. Depending on plans, there are likely to be points where you will take more or less income to reflect lifestyle changes. Perhaps you will spend more in the first couple of years of retirement, fully enjoying the extra free time you have, before settling into a more relaxed lifestyle that requires a lower income. However, ten years down the line you may decide to provide financial support to family, book a once in a lifetime holiday or take up some form of work, changing the amount you need to take from a pension. As a result, defining a sustainable withdrawal level is often far more complex than it first appears.
Making your pension last a lifetime
Whilst calculating a sustainable level of income to withdraw from a pension can be difficult, it should be considered essential if you choose to use Flexi-Access Drawdown. So, what can you do?
- Consider longevity: No one wants to think about dying, but life expectancy plays an important role in pension planning. Thinking about how long you are likely to be in retirement for is a step in the right direction for making sure your pension lasts a lifetime. It is worth noting here that many people in their 50s and 60s underestimate their life expectancy, potentially placing them in financial difficulty in their later years.
- Think about your ideal lifestyle: As mentioned above, some retirees will see their required income rise and fall throughout their life. Having a rough idea of the lifestyle you want and whether it is likely to change as the years go by can help you plan for these peaks and dips. Taking out more at certain points may be viable if you reduce income at other times.
- Frequently review plans: Whilst the above is important, plans can and do change. What you want from retirement now may turn out to be vastly different to what you want in five years. For this reason, it is essential to keep coming back to your withdrawals and the value of pensions.
- Maintain some investments: In the past, it was common to lower investments and risk as you entered retirement to reduce exposure to volatility. However, investing can be a way to deliver returns on a pension, increasing how much can sustainably be withdrawn. When you look at how long retirement will last, it is likely you can take a long-term investment approach with at least some of your pension savings. Of course, investing needs to be weighed up with other areas, including overall attitude to risk.
- Plan for scenarios out of your control: The unexpected can still happen in retirement. What would you do if investment volatility meant pension values dipped in the short term? How would you pay for an unexpected, large bill? Could you cover the cost of care? Building some leeway into your financial plan and withdrawal levels to cover the unexpected can make your strategy more sustainable.
- Work with a financial adviser: It can be hard to understand how your wealth will change over time, and numbers on a page can offer little context. Working with a financial adviser to discuss your initial retirement plans and review regularly can provide you with a plan you have confidence in. Tools like cashflow planning can also help you visualise how different withdrawal rates will have an impact.
As you approach retirement, it can seem like there are many complicated decisions to be made, not least how much to withdraw from your pension. We are here to offer you guidance and support as you plan your retirement finances in a way that suits your aspirations, priorities and lifestyle.
Please note: A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits. The tax implications of pension withdrawals will be based on your individual circumstances, tax legislation and regulation, which are subject to change in the future.